Economics of Climate Change

Costs of action and inaction

Surender Kumar
TERI University
 Nature of the problem
• GHG emissions – an externality and thus a market failure
• Distinctive features
– long-term
– global
– major uncertainties
– huge scale of possible damages
• Implications for economic analysis
– ethical treatment of values within and between
generations
– incentives for global cooperation
– treatment of risk
– non-marginal changes
 The process of human-induced
climate change
• Five key links (Stern, 2008):
– from people to emissions
– from emissions to stocks
– from stocks to rising temperature
– from rising temperature to climate change
– from CC to the human impact
 Drivers of emissions growth
• The Kaya identity (Kaya, 1990):
CO2 emissions from energy = Population X
(GDP per head) X (energy use/GDP) X
(CO2 emissions/energy use)

Annual growth rates in energy-related CO2 emissions and their

components, 1992-2002 (%)
Country/ CO2 GDP per Carbon Energy Population
Grouping emissions head intensity intensity
World 1.4 1.9 - 0.1 - 1.7 1.4

Source: WRI, 2006

Annual growth rate of GHG
emissions (including deforestation)
for major emitters, 1990-2005
Country Annual growth
(%)
USA 1.0
China 4.7
EU 15 -0.3
Indonesia 12.7
Brazil 3.1
Russia -2.4
India 3.6
Japan 1.3
Germany -1.3
Canada 1.9
Mexico 2.1

Source: Brohe et al, 2009 Source: WRI, 2009

 Concentration levels and probabilities
of temperature increases

The cost of inaction is the high probability of devastating impacts

resulting from dangerous increases in global temperature
Source: Stern 2008
 Projected impacts of climate change
Global temperature change (relative to pre-industrial)
0°C 1°C 2°C 3°C 4°C 5°C
Food Falling crop yields in many areas, particularly
developing regions
Possible rising yields in Falling yields in many
some high latitude regions developed regions

Water Significant decreases in water

Small mountain glaciers availability in many areas, including Sea level rise
disappear – water Mediterranean and Southern Africa
supplies threatened in
threatens major cities
several areas

Ecosystems
Extensive Damage Rising number of species face extinction
to Coral Reefs
Extreme
Weather Rising intensity of storms, forest fires, droughts, flooding and heat waves
Events
Risk of Abrupt and
Increasing risk of dangerous feedbacks and
Major Irreversible
abrupt, large-scale shifts in the climate system
Changes
 The costs of inaction

Types of costs associated with climate change

Source: OECD (2008) Costs of Inaction on Key Environmental Challenges, OECD.
 The Modelled Damages from Climate Change with
Increasing Global Temperatures

Source: Stern 2008

 Mean losses in income per capita from scenarios
of climate change
2000 2050 2100 2150 2200
0

-5 -5 .3
% lo s s in G D P p e r c a p ita

-7 .3
-1 0

-1 3 .8
-1 5

-2 0
B a s e lin e C lim a te , m a rk e t im p a c ts + ris k o f c a ta s tro p h e
-2 5 H ig h C lim a te , m a rk e t im p a c ts + ris k o f c a ta s tro p h e
H ig h C lim a te , m a rk e t im p a c ts + ris k o f c a ta s tro p h e +
-3 0
n o n -m a rk e t im p a c ts

-3 5

-4 0
• Essential to take account of risk and uncertainty
• Models do not provide precise forecasts
• Assumptions on discounting, equity, and risk aversion affect results
 The Stern Review, 2006
• “…. the costs of inaction could be from 5-
20 percent of GDP… The investment that
takes place in the next 10-20 years will
have a profound effect on the climate in
the second half of this century and the
next.”
 BAU emissions and stabilisation trajectories for 450 - 550ppm CO2e
Source: Stern, N et al. (2006) The Stern Review: The Economics of Climate Change,
Cambridge University Press, Cambridge. (Figure 8.3)
Source: Stern 2008
 The costs of action
• Bottom up energy technology models
– e.g. McKinsey’s Global GHG abatement cost curve for
2030
• Top down economy wide models
– Stern’s estimates
 Abatement Cost Curve shows that
• There are many available options; some involve
negative cost.
• Whole range of options and each should be
explored in detail.
• Emission savings from one option will depend on
what it replaces
• Policy plays important role; bad policy will lead to
the uptake of more expansive options
• Technical progress is important and should be
promoted to widen the options and reduce costs.
• Timing is important; act now.
 Cost of Action
• The costs of action to the global economy
would be roughly 1 percent of GDP to
achieve the target of stabilization at 550
ppm CO2e.
Cost of Electricity for Different Technologies
Public Energy R&D Investments as a Share of GDP